Macroeconomics: Total output, Total LV of employment, Unemployment rate,

Price LV, Interest rate, Total expenditures by household, business and

government, Exchange rate, Distribution of income, Economic growth.
Theory: Describes, explains and predicts the behaviour of these
macroeconomic variables.
Policy: How to influence, regulate the behaviour of the macroeconomic
variables or their consequences.
Gross Domestic Product (GDP): The market value of the final goods and
services produced in an economy during a given period.
(GDP measures income (output) generated in Canada)
GDP = Price x Qty of final goods produced
Value added approach (Value added = value of production - value of intermediate
goods)
Consider indirect sales tax, labour income and capital income
Income approach (GDP (Income) = Indirect taxes + Labour income + Capital
income)

Expenditure approach (Final goods and services)

Output Approach = Income Approach
Final goods and value added = sum of indirect taxes + labour income
+ capital income
Gross Investment ( Ig )
All purchases of machinery, equipment, and tools by business enterprises
All residential and non-residential construction
Changes in inventories
Net Investment (In):
In = Ig - Depreciation (capital consumption allowance)
In = Net addition to the stock of capital
Capital Stock = residential and non-residential buildings + machinery and equipment +
inventory

GNP measures income (output) received by Canadians

GNP = GDP + investment income received from non-residents

investment income paid to non-residents

GDPreferstorealGDP
YtrealGDPinyeart
$GDPnominalGDP
$Yt=nominalGDPinyeart

GDP growth in year t: rate of change in real GDP in year

t
GDP growth = (Yt - Yt-1)/Yt-1
Expansions -- periods of positive growth
Recessions -- periods of negative growth (2 consecutive
quarters)
Shortcomings of GDP as a social welfare indicator:
1. Itexcludesnonmarkettransactions(lookingafterchildrenandsickparentsmaynotadd
toGDPbutsuchactivitiesareofvaluetofamiliesandsocieties)
2. Itexcludeshidden(underground)economy
3. Doesnotsayhowtheoutput(income)isdistributed
4. Marketpricesdonotreflecttruesocialcosts(externalities)
Measuring unemployment:
1. Employed (job holders):
If the person worked full-time or part-time during the past week (or was on
sick leave, on vacation, or strike)
2. Unemployed (job seekers):
If the person was without work during the past week, had
work in the past 4 weeks, and was available for work;
3. Not in the labour force:

actively sought

If the person did not work during the last week and did not look for work
during the past 4 weeks (eg, full-time students, homemakers)
Adultpopulation=employed(E)+unemployed(U)+notinlabourforce(NLF)
Labourforce(LF)=E+U
Unemploymentrate(u):thefractionoflabourforcethatisunemployed

Sources of Unemployment:
Job losers
Job leavers
Entrants and re-entrants
Types of Unemployment:
Cyclical (deficient demand) unemployment ( arises because of a downturn in
the economy)

Frictional unemployment (Wait & Search Unemployment)

(arises from normal labour turnover (from people entering and leaving the labour
force))

Structural Unemployment (arises when changes in technology and international

competition change the skills needed to perform the job or change the locations of
jobs)
Seasonal Unemployment (arises because of seasonal weather patterns.)

Actualu=Cyclicalu+Frictionalu+Structuralu+Seasonalu
Fullemployment/Naturalrateofunemployment=Frictionalu+Structuralu+Seasonalu
Actualu=Cyclicalu+Fullemploymentu

UnemploymentRate(u)=numberofunemployed(U)x100
labour force (LF)
LabourForce(LF)=employed(N)+unemployed(U)
ParticipationRate=labourforce(LF)
Adult population(15+)
Okuns law:

 For every 1% that actual unemployment exceeds the natural rate, the
actual GDP falls below its potential by 2%
Highoutputgrowthreducesunemployment
Lowoutputgrowthincreasesunemployment

The Inflation rate: A sustained rise in the general level of prices

Causes of inflation:
Demandpullinflation(excessdemand)
Costpushorsupplysideinflation(anincreaseinperunitcostofproductioncosts)
Consequences:
Redistributioneffects
Outputeffects
When the unemployment rate is low, inflation tends to increase.
When the unemployment rate is high, inflation tends to decrease.
This negative relation is called the Phillips relation.

The Consumer Price Index (CPI)

CPI: It expresses the price (cost) of buying a fixed basket of G&S at any
time in relation to what the same basket of G&S cost in a base year.
CPI = Average price of consumption = the cost of living index.
Price of 'the basket' in the current market prices
CPI = ----------------------------------------------------------------Price of 'the basket' in the base year prices
GDPdeflatorinyeart=Pt
Pt=nominalGDPt=$Yt
Real GDP t

Yt

x 100

GDP price index = value of current GDP at current market prices x

100
value of current GDP at base year prices

Nominal GDP
----------------------------- x 100
real GDP

nominal GDP
Real GDP = --------------------------------------------------------------------- x 100
GDP price index (GDP price deflator)
Short Run = few years
Medium Run = decade or two
Long Run = from a decade to a century
Classical or supply-side macroeconomics:
1. Acapitalisteconomyisastableandselfadjustingsystem.
2. Thewageandpriceflexibility,combinedwithperfectcompetition,perfectinformationand
perfectforesightensurefullemployment
3. Equilibriumoutput(GDP)atfullemploymentisthenorm.
4. Theequilibriumlevelofoutput(GDP)isdeterminedbythesupplysidefactors,suchas
technology,populationgrowth,investment,population'sthriftiness,goodgovernment:
5. Say'slaw:supplycreateitsowndemand
6. Allchangesintheproductivecapacityoftheeconomyareautomaticallyaccommodatedby
changesinaggregatedemand(aggregateexpenditures)
7. Thereisnoneedforgovernmentinterventionintheeconomytomanageaggregatespending
(handoffpolicy).
Keynesian or demand-side macroeconomics
1. A capitalist economic system, such as our economy, is not a stable and selfadjusting
system.
2. Equilibriumatfullemploymentisonlyaspecialcase.
3. Theeconomymayproducealevelofoutput(GDP)belowitspotentialoutputandnothing
willchangeoveralongperiodoftime.
4. Theequilibriumlevelofoutput(GDP)isdeterminedbytheaggregatespending.
5. Anychangesinaggregatespendinghasa multiplying effectontheequilibriumlevelof
output.
6. Marketsarenotselfregulating

7. Theyarepronetoassetandcreditbubbles,whichinevitablycollapseimposingmassive
socialcosts.
8. Thereisaroleforthegovernmentintheeconomytoregulateandstabilizetheeconomythe
government
9. The government should actively make use of the available policy instruments, such as
interestrate,taxesandpublicexpenditure.
New Keynesian macroeconomics
1. Intheshortrun,theeconomybehavesasdescribedbyKeynesianmacroeconomics.Butin
themediumrun,itbehavesasdescribedbytheclassicalmacroeconomics.
2. Intheshortrun,marketfailstoachieveequilibriumdueto:
Asymmetricinformation
Sluggishmarketadjustmentresultingfromwageandpricerigidities